During this period of heated debate on economic instability and health care reform, retirement plan fiduciaries should not forget that plan fee reform is on the horizon. Legislation regarding plan fees is moving through Congress, and the Department of Labor (DOL) is finalizing regulations regarding fee disclosure under ERISA. These efforts will focus on:
- Revenue sharing (the process by which one service provider collects fees from plan assets and distributes them among other providers), and
- Disclosure of plan fees to plan participants and the government.
This WorkCite article focuses on “float” – a form of service provider compensation that continues to be in the plan fee spotlight.
Generally, a service provider (usually, the plan’s trustee or recordkeeper) has access to float (i.e., the use of assets during a specified period) in two instances:
- Where plan assets have been contributed to the plan without investment direction or instruction from the plan administrator, and
- Where plan assets are pending distribution to a plan participant.
Three potential problems arise for plan fiduciaries when a service provider receives float compensation.
- Float compensation could be deemed a prohibited transaction under ERISA Section 406(a)(1)(D), as “a transfer to, or use by or for the benefit of a party in interest of any assets of the plan” for which there is no applicable exemption. This could result in liability for the fiduciary that permits the float to occur without the approval of an independent plan fiduciary.
- Similarly, where the service provider is a plan fiduciary, taking the float without the approval of an independent plan fiduciary could be deemed a prohibited transaction under ERISA Section 406(b)(1) by “deal[ing] with the assets of the plan for his own interest or for his own account” for which there is also no applicable exemption.
- The responsible fiduciary could be deemed to have violated ERISA Section 404(a)(1)(A)(ii) by paying unreasonable expenses in the administration of the plan.
The payment of float in the absence of confirming language in the trust agreement or other plan document might also be deemed a plan document failure under ERISA Section 404(a)(1)(D).
Therefore, plan fiduciaries and service providers must pay careful attention to negotiating and disclosing the extent to which float is retained by a plan service provider. Guidance is available from the DOL, a recent court decision, the Form 5500 instructions and the proposed draft final regulations released by the DOL.
Float and DOL Field Assistance Bulletin 2002-3 (FAB)
This guidance provides that float can either be retained by the service provider as part of the provider’s compensation or reinvested in the plan, thereby increasing plan assets and/or reducing the amount the plan sponsor may need to contribute to the plan in the future.
Under the FAB, the DOL stresses negotiation and monitoring by the fiduciary to ensure that a service provider’s compensation is negotiated and approved by an independent fiduciary. The FAB provides the following steps for fiduciaries to use when reviewing agreements involving float:
- The fiduciary should review comparable service provider arrangements to determine whether float is credited to the plan or to the service provider’s account. The fiduciary should review the circumstances under which float is earned. Where float is earned because amounts are awaiting investment or instruction, the agreement should contain time limits, and fiduciaries should be aware that any delay in transmitting information can increase the amount of float earned.
- The fiduciary should review the circumstances under which float is earned.
- Where float is earned because amounts are awaiting investment or instruction, the agreement should contain time limits, and fiduciaries should be aware that any delay in transmitting information can increase the amount of float earned.
- Where float is earned because funds are awaiting distribution or distributed plan assets (in the form of checks to plan participants) have yet to be presented for payment, the tolling period for the calculation of float should be clearly defined.
- The fiduciary should ensure that the agreement contains sufficient information to review float as part of the overall compensation of the service provider. For example, the service provider should disclose the rate of return that it intends to use to calculate the float. The fiduciary may then compare that rate to the rate earned by other providers. This will enable a fiduciary to include the approximation of total float in determining the overall reasonableness of the service provider’s compensation.
- The fiduciary should monitor the service provider’s actions to ensure consistency with the terms of the agreement. The fiduciary must ensure that the service provider does not exercise discretionary authority or control, sufficient to cause a plan to pay additional fees to the provider.
By following the steps above, fiduciaries limit their exposure to allegations of breach of fiduciary duty owed to the plan and of participation in a prohibited transaction.
Float and Tibble v. Edison
A recent case from the US District Court for the Central District of California tackled the issues of whether a plan fiduciary (a) breached its duties under Section 404 of ERISA and (b) engaged in prohibited transactions under Section 406 of ERISA by allowing the plan’s trustee to retain float earned under the plan as compensation. See Tibble, et al. v. Edison International et al., 2009 U.S. Dist. LEXIS 67845 (C.D. CA July 16, 2009) and 2009 U.S. Dist. LEXIS 67752 (C.D. CA July 31, 2009).
In its first opinion, the District Court concluded that there were unresolved issues as to whether float was intended to be part of the trustee’s compensation under the trust agreement (which was executed in 1999, prior to DOL FAB 2002-3). The District Court also questioned whether the plan sponsor paid an artificially low annual rate for the trustee’s services in exchange for allowing the trustee to retain the float.
Following additional briefing on this issue, the District Court decided that the plaintiffs’ claim failed because there was no evidence that the plan sponsor caused the plan to engage in a transaction within ERISA’s six-year statute of limitations that caused the trustee to retain the float. The District Court further held that the plan sponsor’s failure to recapture the float from the trustee was not a prohibited transaction.
Notably, the District Court further held that the initial transaction – the signing of the trust agreement – might have enabled the trustee to engage in a prohibited transaction, but that the document was signed outside of the statute of limitations for commencing the lawsuit. Finally, the District Court decided that the plaintiffs’ did not provide any specific evidence, and therefore failed to make any valid argument, that the fiduciaries breached any other duty when permitting the trustee to retain the float.
The Tibble decision is helpful because it clearly explains what plan sponsors and other fiduciaries must do to avoid liability in this area:
- Plan documentation must support the various parties’ roles in the arrangements.
- There needs to be a record of thorough discussion among plan fiduciaries about the plan’s investment strategy and the plan participants’ desires.
- The parties should acknowledge that plan fees are an overarching issue.
Float and Form 5500
While the Tibble case highlights the need for plan sponsors to be aware of the many types of fees and revenue sharing arrangements under a plan, the DOL, through regulations issued in 2007, is requiring plan sponsors to thoroughly document those arrangements as part of their annual reporting requirements. (See the instructions to Schedule C of Form 5500).
For Forms 5500 for plan years beginning in 2009, a plan must identify persons who directly or indirectly received at least $5,000 in compensation during the plan year for services rendered to the plan or in connection with transactions with the plan. Additionally, Schedule C requires that disclosure of direct compensation paid to the plan be placed on a separate line from the line for indirect compensation received from sources other than the plan or plan sponsor.
In an FAQ clarifying related DOL regulations, the DOL specifically identified float as a form of “eligible indirect compensation” that is required to be reported on the revised Schedule C. Further, the FAQ provides that “disclosure of float income sufficient to satisfy the guidance under FAB 2002-3 will generally be sufficient to satisfy the disclosure requirements for the Schedule C alternative reporting option.” The Schedule C alternative reporting option requires that this disclosure include all of the following:
- The existence of the indirect compensation,
- The amount (or estimate) or a description of the formula used to calculate or determine the compensation,
- An explanation of the reason for the float income payment, and
- The parties paying and receiving float income.
The end result is that plans, recordkeeping agreements, trust agreements, prospectuses and other supporting documents will need to be reviewed, not only to prevent negative outcomes in litigation, but to meet government reporting requirements for increasing amounts of disclosure.
Float and Future Fee Activity
As noted in the first paragraph of this WorkCite, several Congressional committees are processing legislation regarding plan fees. There is every reason to believe that any legislation ultimately enacted will permit service providers to retain float, provided that ERISA’s fiduciary rules are followed and required disclosure is made.
Similarly, the DOL anticipates releasing two sets of regulations regarding the disclosure of plan fees (including float) in the near future. Again, these regulations are likely to focus solely on the manner in which those fees, including float, are disclosed, rather than the ability of the service provider to retain float.
The message is clear: The retention of float by a service provider is permissible, but it should be negotiated as part of a written agreement. Moreover, such agreements must be:
- Independent of incentives for either the plan sponsor or the service provider to act or fail to act to increase float for their own benefit, and
- Monitored and disclosed as part of the reporting requirements.
Failure to follow this course of action may expose plan fiduciaries to liability for fiduciary breach and prohibited transactions.